Due to this year’s calendar, the planning for the end of this tax year will fall in March. Here are 5 actions individuals may wish to consider taking:
From 1st July 2014 the ISA allowance increased to £15,000 per person per annum, and additionally all of this investment can be held in cash, or investments, or any proportion in-between. If this allowance is not used by 5th April 2015 then it will be lost forever. Even if individuals are unsure of the long term affordability of an ISA they can consider having “instant access cash” within an ISA. Clearly with interest rates currently so low, the benefit of sheltering this from tax may also seem low. However interest rates will increase at some point and the compound affect of sheltering this from tax means ISAs invested in cash remain valuable.
For those with a longer term view and willing to take some investment risk, the ISA can invest in investments other than cash, the choice of which can range from low to higher risk depending on an individual’s attitude to investment risk.
Pension Contributions: Carry Forward
For individuals who have earned income and can afford to make pension contributions, £40,000 can be sheltered in the present tax year by a combination of personal and/or employer contributions. Personal contributions to pensions receive UK income tax relief. The withdrawal of money for those aged over 55 on April 5 2015 means the entire pension fund is accessible as a lump sum, 25% of which is tax-free with the balance taxed as earned income. This enhanced accessibility means many people may find it appealing to pay at least the current year’s £40,000 allowance into a pension.
If an individual wishes to make contributions in excess of £40,000 in this tax year they could potentially carry forward their 2011/12 allowance of £50,000. This 2011/12 tax year contribution allowance will be ‘lost’ post 5th April 2015.
Pension Contributions: Child Benefit
For those with earnings between £50,000 and £60,000 who are either claiming child benefit, or have a partner living with them who claims child benefit (married, unmarried or civil partner) the child benefit income charge means some or all of the benefit will effectively be reclaimed. The entire benefit will be repaid via the charge where the individual earns over £60,000. The effect of this is that an individual pays ever increasing rates of tax depending on the number of children they have for whom the child benefit applies.
Pension contributions are an effective way of mitigating this tax as the effect of a pension contribution is to effectively reduce earnings on which tax is applicable. Therefore a ‘one off’ pension contribution either personally or via a salary exchange (more detail on this below) could reduce income below £60,000, or even £50,000 which could reduce or remove the tax charge. Taking action before 5th April 2015 would reduce any income tax due by 31st January 2016.
Pension Contributions: Bonus Exchange
Many employers pay bonuses around this time of year, and as long as a bonus is given up before it falls due for payment, most employers are normally happy to instead contribute this to a pension arrangement. This reduces the employee’s Income Tax and National Insurance and also saves the employer their 13.8% National Insurance.
In many cases the employer will be happy to add a share (usually at least 50%) if not all of their National Insurance saving to the pension contribution. For example an individual entitled to a £10,000 annual bonus, can ask an employer to pay £11,380 into a pension scheme, in exchange for their bonus, at no extra cost to the employer.
Pension Contributions: “Beware of the margins of tax”
Due to the way our tax system works individuals earning over £150,000 find any income above this level pays 45% income tax, and individual’s earnings above £41,850 find their earnings jump from 20% to 40%. The worse tax rate position to be is reserved for those earning between £100,000 and £120,000, where the loss of personal allowance on a £1 allowance lost for every £2 of income, means an effective rate of tax of 60%.
Individuals with earnings at the margins are often well placed to either reduce their income through a salary exchange, or at the very least make a personal contribution before 5th April to bring the earnings below the margin. To use a “utopian” example, but one we often come across, an individual who elects for an increase in pension contribution to bring their salary down from £120,000 to £100,000, with the employer’s full national insurance rebated, will enjoy 60% income tax relief and nearly 15% national insurance giving an effective rate of tax relief of 75%. Put another way every £1 of “lost” income generates an additional £4 in the pension fund. Yes, tax will be paid on 75% of the pension fund when the money is withdrawn but, at that point many individuals will be 20% tax payers in retirement therefore the ability to swap an effective 75% income tax in working life for a 15% tax in retirement is very appealing where it is affordable.
These are just some of the opportunities available before the year end, and clearly personal advice will be required to make sure individuals are taking advantage of these in the best possible way.
For further information about the tax year end opportunities and/or details of how we can help please contact us as soon as possible as we are expecting a particularly busy period given the changes to pension flexibility due from 6th April 2015.